1983 PLP 120 (PTD)

Further, under Article 14, Khanna has "the rights to assign all its rights and duties under this agreement to the Shama Engine Valves Ltd., anew company, which will undertake the manufacture and sale of valves in the territories stipulated in this agreement. BLW agrees to this assignment already at the time of contract of agreement." In consequence of this assignment the assessee had: to make payments to BLW. Ti1L first payment pertained to 30,000 German Marks, which it is common ground in a capital expenditure, However, the payment pertaining to royalty for the various years was claimed by the assessee as a deductible revenue expenditure. In making this assertion, it relied on the decision of the Supreme Court in C.I. T. v. Ciba of India Ltd. ((1968) 69I T R 692). The amounts paid for the various assessments years, the corresponding previous years ending on 30th September, are as follows Rs. 1965‑66 24,747 1968‑69 25,621 1966‑67 39,068 1969‑70 28,922 1967‑68 30,945 1972‑73 39,666 The I. T. O. found that the facts did not justify the applicability of the ratio of the decision of Ciba's case and held that the expen diture incurred was as a capital nature, as the assessee got an enduring benefit. Ciba's case was distinguished mainly on the ground that, there, merely a right to draw upon the practical knowledge of the Swiss company for a limited period was granted, whereas in the present case the assessee acquired an exclusive right to manufacture and to all existing skills future improvements. The stipulation with regard to automatic renewal of the agreement after ten years and right of the assessee to continue manufacture without payment on the termination of the agreement, for any reason, weighed with the I. T. O. He said "The assessee gets all the knowledge to that date. His loss is only the inability to use BLW name. The payment said to be trade by way of royalty is of a capital nature. The payment of royalty is, there fore, being disallowed." The A.A.C. alarmed the order of the I.T.O. On further appeal to the Income‑tax Appellate Tribunal, the assessee's appeal was allowed. The Tribunal held that it bad to look not only to the agreement but at the surrounding circumstances to ascertain to real nature of the payment from a commercial point of view. It found a striking simi larity in the clauses of the present case to that of the Ciba case and the case decided by the Calcutta High Court in C. I. T. v. Hindustan General Electrical Corporation Ltd. ((1971) 81 I T R 243). The Tribunal was of the opinion that in the present case as in the Ciba case, there was no payment for parting with technical knowhow permanently in favour of the assessee. It further observed that the "object of payment of royalty was for the purpose of getting benefit of technical assis tance for running the business", like in the two above‑mentioned cases. The payment of royalty was recurring in nature based upon the sales. The assessee was prohibited from divulging information to the third party with out the consent of BLW. The payments for a limited period, i.e., the period of the agreement, the only difference being that in the CIL case the tenure was for five years whereas in the present case was for ten years. The fact that the assessee was starting a new business was not of much significance. It, therefore, held that "the payment of royalty related to the current expenses for the purpose of carrying on manufacture of valves" agreed to be carried on in accordance with the terms of the agreement. The payment of royalty was, therefore, referable to a pooling arrangement between the assessee and BLW for the manufacture of valves. No secret process was sold and as such the payment could not be treated as relating to capital expenditure. Distinguishing the case of Mysore Kirloskar Ltd. v. C. I. T. ((1968) 67 I T R 23‑(Mys.)), it held that the knowhow did not become the property of the assessee even at the end of the period of the agreement. By our judgment in Shriram Refrigeration Industries Ltd. v. C. I. T. ((1981) 127 I T R 745), applying the principles enunciated in Ciba, by the Supreme Court, we have held that the collaboration agreement with Westinghouse providing for techni cal knowhow did not amount to a permanent parting of the technical knowledge in favour of Shriram. We have taken a similar view in Triveri Engineering Works Ltd. v. C. I. T. ((1982) 136I T R 340 (Delhi)). We, therefore, do propose to deal with the case law in any detail. What has to be seen in each case is the substance of the matter and not the words used, the surrounding circumstances and the nature of the expenditure. What is it that the assessee has acquired ? An exclusive licence for limited period or an advantage of enduring benefit ? It would seem to us the former. In Coming to the conclusion we have examined the totality of the terms of the agreement. These are: (i) the period of the agreement is limited to ten years ; though it is automatically renewable thereafter it is terminable with six months' notice; further, the extensions which are to be from year to year, require the prior approval of the Government of India on each occasion. Also the agreement can be terminated even before the expiry of the ten‑year period in certain eventualities (Article 10); (ii) though there is an exclusive right to manufacture in India and the specified countries and also an exclusive licence to use and sell the valves so manufactured in the specified countries, the payment of royalty of one per cent is linked with the net selling value". A detailed statement has to be furnished every three months and the amounts paid every sixty days to BLW. The royalty is a recurring payment based on the sales to the assessee ; (iii) though the assessee can sell the valves manufactured here outside the specified territories and pay the royalty as above‑mentioned, it has to obtain BLW's written consent (iv) even the valves manufactured by BLW in Germany can be sold by the assessee in the specified countries but here too royalty will have to be paid. The payment of royalty would, therefore, appear to be a recurring and current expenditure connected with the sales of the valves ; (v) in case of default, under Art. 10, the agreement can be terminated after the requisite notice. If the agreement is terminated due to Khanna's fault, prematurely, it will have to pay the royalty only if BLW permits Khanna to use the BLW trade name for the dura tion of the agreement. After the expiration of the agreement, Khanna can use the trade name only if the purpose of executing orders against quotations submitted before the termination. Of course, royalty has to be paid. Otherwise on termination Khanna retains only a non‑exclusive right of manufacture without further payment ; (vi) a restriction is placed on Khanna or its assignee, the assessee, pertaining to confidentiality; it is not permitted to communicate or disclose any information to any third party without BLW's written consent ; (vii) a right has been given to Khanna to assign the agreement to the assessee. This has been provided for in the agreement. Nothing further is mentioned therein with regard to further assignment (viii) though the latest and other methods of information available with BLW are to be disclosed during the currency of the agreement to the assessee, it is debarred from disclosing them to any third party ; (ix) the object of obtaining the technical knowhow was clearly for running the business ; (x) though there is no provision in the agreement for a return of the documents which form party of the knowhow including the drawings, production schedules, calculation schemes, etc., this is not pertinent as in the present state of fast technological developments these become obsolete and mere scraps of paper unless updated ; and (xi) This updating or providing of information would naturally stop at the end of the period of the agreement. It would, therefore, appear to us that what the assessee has obtained is a licence to manufacture valves, a right to sell the same and assistance in carrying this out. The recurring payment of royalty is for the use of the know how/assistance and not for its acquisition. The payment of royalty is a recurring charge on the "net selling value" and no advantage of ensuring benefit has been obtained. The restriction pertaining to confidentiality of information would further indi cate that no secret process or technical knowhow has been sold to Khanna (assessee) and there was no permanent parting of technical know how. It is true that the present case, BLW bad to place the patent applica tions at the assessee's disposal on termination of the agreement so that the assessee can file them. This would give the impression that the assessee had a protected patent right in any case, this right, if at all, only accrues to the assessee at the time of termination. Further, earlier noticed, a lump sum payment of DM 30,000 had been made to provide for the capital element of the agreement. In the present case, it would appear to us that the payment of royalty, despite its nomenclature, has a direct nexus with the carrying on or conduct of the business of the assessee; and commer cially considered, it must be treated as an integral part of the profit making process, the purpose of payment of royalty being based upon the production and sale of the valves manufactured by the assessee. Therefore, we are in agreement with the view of the Tribunal that the expenditure must be treated as revenue. Learned counsel for the assessee had alternatively urged that as technical knowhow is an intangible asset it cannot be transferred and, therefore, the assessee cannot be held to have acquired an advantage of an enduring nature, In support of his proposition he relied on. C. I. T. v. Tata Engineering 8: Locomotive Co. P. Ltd. ((1980) 123I T R 538 (Bom.)) and Praga Tools Ltd. v. C. I. T. ((1980) 123 I T R 773 (A P)). This is an interesting issue but in the view we have taken above, we need not express any opinion on this aspect of the matter. For the reasons outlined above, we answer the question in the affirma tive and in favour of the assessee. As the assessee has succeeded, it will be entitled to costs. Counsel's fee Rs. 350 (one set). Question answered in the affirmative.